By: Adam Horowitz, Principal, Lever Capital Partners
Private equity sounds awesome and sometimes it actually is. When sponsors are building out their capital stack they often have a need for outside equity to compliment their own capital. They then have to decide if they want private partners or an institutional one. There are pros and cons of raising equity from private sources vs institutional ones and we’ll try to provide some of the biggest factors you should think about.
Equity from private sources certainly can have some upsides. Private sources will typically allow for the general partner to have greater control of the project, more favorable deal splits and less complicated partnership terms. With all of those positives, why would anyone take on an institutional partner you might ask. Well, if you need more capital than your private sources have lying around, don’t want to spend half your day raising capital, or want a partner that’s an expert in commercial real estate, then maybe finding an institutional partner is for you.
As we all know, time is money, and if you want to grow your business, work on bigger deals, and not spend your days capital raising, then you’re better off with an institutional partner. Making the transition isn’t always an easy one. The required reporting is much greater and you’ll be asked a lot of questions regarding your project or business model that you hadn’t thought of previously. Having answers to those difficult questions when the credit markets tighten will benefit you as you’ll have a professional partner that understands how to navigate the difficult waters.
Is having “control” important? Of course it is. Loss of control is always a big contender for those contemplating going the institutional route. Control rights typically come in to play only if you run into a problem with the project and your partner has a different vision than you. The operating agreement clearly spells out all the control rights and there will be a buy/sell agreement giving everyone a fair shake when it comes to staying in or exiting the investment.
What about the complicated IRR hurdles? OK, so you’ll have to break out your Excel modeling skills here or ask the analyst on your deal to step you through the model. These IRR hurdles usually are only going to come into play once a capital event, like a sale or recapitalization takes place so it’s not like you’re going to have to run the formulas daily.
Everything seems great until it doesn’t. When problems arise, as they are now, you want an institutional partner that knows how to navigate troubling times. This won’t be their first rodeo when dealing with economic uncertainty. They’ve been there before and can work with you to figure out the best plan of action going forward. Private investors scare more easily and would be more likely to try and pull their money out of a deal rather than backing your plan and coming out the other side in one piece.
Sometimes you’ll find a perfect investor where you get all the benefits with none of the downsides. When that happens, take it and be grateful. For everyone else, it might be time to look at institutional partners to see if they’re a good fit for your next project.
We’re Here to Help
Lever Capital Partners can guide you through the process of determining which partner is best for you. To learn more about this topic, or if you have questions regarding other financial needs, don’t hesitate to reach out to us.